Why Viability Gap Funding Is Important For Infrastructure Development

There have been concerns regarding the viability of some of the infrastructure projects given our aggressive push to augment our public infrastructure. These concerns stem from the perspective of commercial viability of a bulk of these projects.

Recently, the Noida Metro has started offering coaches for birthday parties and other private events. This was done to improve the viability of the project. It reminds us of another instance where a metro project found itself to be unviable, that of the Airport Express Line that connected the Yellow Line, the busiest within the Delhi Metro, to the airport. 

The buck does not stop here as lot of other ongoing metro projects may encounter a similar fate and the same may be true for other infrastructural projects that will have some participation from the public sector.

The key question is whether infrastructure development should be based on the economic viability of the project or whether we should treat it to be a public good?

For a government that is committed to its social obligations, it must construct a road to villages even if it won’t be able to justify the road on economic grounds. The benefits of physical infrastructure such as roads tend to have several externalities that cannot be adequately captured and therefore, economic viability cannot be the sole criteria for commissioning such projects.

For those who’re not aware, the definition of a classic public good is one that is non-excludable and non-rivalrous. Like most public goods, physical infrastructure is an excludable good, but it has non-rivalrous consumption. That is, we can exclude who uses the road so it is an excludable good and my use of road does not have an impact on your use of the same (unless the exceptional case of traffic where we’d prefer to limit the number of cars in an area).

Since we can exclude the use of the road, we can attribute a price to its use and the model of tolls attempts at achieving precisely the same. Several of the expressways recover the cost of construction by collecting toll tax for the use of the road. That is why roads, tunnels and other such infrastructure can be classified as quasi-public goods. For the case of Metro projects, the money generated through sales of tickets are often used to monetize the projects and fund further expansion.

The question that needs to be addressed is whether we should construct projects that may not be able to recover their costs. This issue is at the heart of the urgent push to monetize some of the NHAI assets before we invest in further projects.

It is often difficult to know before hand whether projects of the size and scale such as expressways or metros would be viable or not. But even if one ignores this informational gap, there is limited or no reason why we should restrict our focus to only financially viable infrastructure projects which have enormous positive externalities.

Metro is an excellent example as a concept of augmentation of public transportation. Yes, some of the metro projects may not be viable in the short run, however, they will be instrumental in decongestion of our roads and improve mobility across major cities which can act as a driver for their growth.

Over the next few years, as our population density improves and cities become bigger, the sheer scale of our population can make some of these initially unviable projects economically feasible. But even if it doesn’t, the potential benefits do justify the pre-emptive move to invest in better public transportation systems.

It must be recognized that private sector would only be interested in viable projects and therefore, to ensure greater investments into the infrastructure pipeline, we must recognize the need for government to take some risks. For viable projects, there shouldn’t be any problems as companies will end up recovering the cost of the project along with a return. However, for projects that aren’t viable, government would have to cover the bill for the party.

The best way to ensure proactive role of private sector in our infrastructure ambition would be to recognize this problem and approach it with the option of viability gap funding. There have been several schemes that have addressed this issue with a similar approach in the past and therefore, we can find several precedents of the same.

Viability as a guiding philosophy works best when it is a private good, but we cannot use the same philosophy for public infrastructure and while monetization of existing assets is important, they must not hold back expenditure on our future infrastructure projects.

It is good that the government recognizes the need to augment our rail-networks, road-networks and urban public transportation systems – we must continue doing so even if some of these projects are unviable as they will have significant externalities and benefits for the economy over a period of time.